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1982
Recommended Citation
Mensah, Isaac Quao, "Asset market approach to exchange rate determination " (1982). Retrospective Theses and Dissertations. 7058.
https://lib.dr.iastate.edu/rtd/7058
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300 N. ZEEB RD.. ANN ARBOR. Ml 48106
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University
Microfilms
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Asset market approach to
exchange rate determination
by
Major: Economics
Approved:
TABLE OF CONTENTS
Page
CHAPTER 1. INTRODUCTION 1
Objectives of the Study 3
Outline of the Study 6
CHAPTER 2. LITERATURE REVIEW 9
Theories of the Exchange Rate Determination 9
Empirical Literature 19
CHAPTER 3. THE THEORETICAL MODEL 24
General Features of the Small Country Model 24
The Role of Expectations 31
Explanation for Exchange Rate Volatility 34
Steady State 53
Short Run Analysis 56
Unanticipated transitory monetary disturbance 59
Unanticipated permanent monetary disturbance 65
Anticipated disturbances 78
Anticipated permanent monetary disturbance 81
Anticipated transitory monetary disturbance 113
General Features of the Two Country Model 115
The Exchange Rate Equation 119
CHAPTER 4. EMPIRICAL ESTIMATION 123
The Model 133
Empirical Results 136
Anticipated and Unanticipated Money Supplies and
the Exchange Rate Level 146
Identification 148
Estimation and Diagnostic Checking 151
Autocorrelation check 152
Cumulative periodogram check 153
Exchange Rate Volatility 165
CHAPTER 5. SUMMARY AND CONCLUSIONS 168
iii
REFERENCES 173
ACKNOWLEDGMENTS 176
APPENDIX 1. DATA 177
Time Period Under Study 177
Variables and Definitions 177
Derived Variables 178
Data Sources 178
APPENDIX 2. DERIVATION OF THE FORMULA FOR x.
(EXPECTED RATE OF DEPRECIATION)^ 179
APPENDIX 3. DERIVATION OF PARAMETER VALVUES
FOR EQUATIONS DERIVED UNDER FULL
RATIONAL EXPECTATIONS 180
Derivation of the Homogeneous Solution 186
APPENDIX 4. DERIVATION OF RELATIONSHIP BETWEEN
^ and 2 188
iv
LIST OF FIGURES
Page
Figure 1. The time path of the exchange rate when
a transitory change in the money supply
is unanticipated 62
Figure 2. The time path of the exchange rate when a
permanent change in the money stock is
unanticipated 68
Figure 3, The time path of a^ due to a permanent
open market operation policy 73
Figure 4. The time path of p^ due to a permanent
open market operation policy 75
Figure 5. The time path of the exchange rate when
a permanent change in the money stock by
means of open market operation is
unanticipated 77
Figure 6. The time path of the exchange rate under
partial rational expectations when a
permanent open market operation is
anticipated 84
Figure 7a. The time path of the price level (exchange
rate) under full rational expectations
when an open market operation is antic
ipated 92
Figure 7b. The time path of the foreign asset level
a^, under full rational expectations when
an open market operation is anticipated 93
Figure 8a. The time path of the price level (exchange
rate) under full rational expectations
when an open market operation is antic
ipated 97
Figure 8b. The time path of the foreign asset level
a^, under full rational expectations when
an open market operation is anticipated 98
V
LIST OF TABLES
Page
Calculated exchange rate levels in
response to anticipated open market
operations 95
Calculated exchange rate levels in
response to anticipated open market
operations 100
Calculated exchange rate levels in
response to anticipated pure monetary
expansion 111
Comparison of the effects of anticipated
and unanticipated permanent monetary
expansion 113
OLS estimates for Ln(S) DM/ unre
stricted 125
OLS estimates for Ln(S) DM/ restricted-
mixed samule and prior information 125
OLS estimates for Ln(S) DM/ restricted-
mixed sample and prior information 127
OLS estimates for Ln(S) $/ 127
OLS estimates for S($/DM) 130
Consistent estimates for reaction func
tions and exchange rates (25LS) 131
Unrestricted OLS estimates for S(DM/$) 137
Unrestricted estimates for S(DM/$)
corrected for first order autocorrelation 142
Estimates for S(DM/$) restrictions
imposed, corrected for first order
autocorrelation 143
Estimates for S(G/$) restrictions imposed,
corrected for first order autocorrelation 145
vii
CHAPTER 1. INTRODUCTION
Empirical Literature
Since exchange rates began to float in 1972, their
movements seem to have been dominated by monetary conditions.
This has stimulated several attempts to apply the asset
market model empirically in order to explain the exchange
rates of the major currencies. Most of the studies
derive exchange-rate equation by manipulating money market
equilibrium conditions. Studies by Bilson (1978), Frenkel
(1976), Girton and Roper (1977) and Hodrick (1978)
follow this approach.
Frenkel's model is based on the assumption in
hyperinflation periods. During the German hyperinflation,
for example, relative price movement swamped all other
influences on German exchange rates. Over periods of
time long enough for ratios of national price indexes to
change radically, purchasing power parity may have
considerable validity, but has been discredited as a short
run hypothesis in more general circumstances. Bilson
(1978) presented a model of exchange rate determination
20
of the
Dombu ; ^ <#'. 4'
(1976)
The Di I V
empiri -:
polici
analys
repere <'^^-^-2.
are ig ^ e -
of thé ^13?-
countr :i'
emoiri
?SSS35P5
count: \
V
on tn.c > ^ ~zM
L
[ggsgTiss- - - The dc 3,
single
!==
23
P = SP*
i = r* + X (3)
M _ 6(r* + X, Y) A (5)
F 1 - 0(r* + X, Y)
and hence
^ - Y + A - E(Y + A, p + (7)
Note that
(14)
33
+ (15)
^t = ITr^®t - at -
j=l
- m - ®t+j - ^^c+j +
Pt - - ^t+i + (18)
a + 1)
Note that this solution is the same as in Equation 16.
If is recognized as endogenous, its time ptah Ls then
governed by Equation 7, which is written here for
convenience ;
- Y + A - E(Y + A, ^
< 0. V 0
P
^t = ^t-1
dB_ dA.
32^ - 0, but 32^ - -1.
or
^t+l + *t+l - = ep - gAj - gMj + gPj
da^ 0 for i f 0
-1 for i = 0
or
+ (1 + X)Zt+i - XZt+2
CO • 00 • 00
Pt = + Yina^+ir^ + ïzOTt+i®'' + ^3
o o o
and
00 . CO , 00
= -(1 + X + Xb^)
Oq = (1 + %)bo - g
42
and
(1 - b^)e^ -
" 1+g - b
y _ r(bQ - g) - 1
1 D
bp - g
(1 + X)bQ - g
-r
^3 D
Y _ r 1
4 - D - CI + X)b^ - g
2
-«1 ± /Xoi - 4*^02)
= z;;
%=è
gei + e,
*0 - 1 + g - b
•1 = - '•I +
43
*2 = (1 + x^i -Z-g - *1
•3 = Y3(' - % +
_ 1+ X
^^4 - (1 + x)b^ - g - *3
l(Mt+i - M*)k^
o
ft = To + YlSVc+iri + + YgZZc+i+iri
o o
^t = *0 + + *2:Vc+iS^ + fszZt+l+i?^
0 0 0
" i t t
+ 'J>4^^t+H-i® ^ *58 1 "i'6® 2 (26)
o
where in Equation 25,
(l-bo)e^ - e^
To = ** i + g - bo
The values of y-^ through and 4)^ through 41^ are the
same as given before.1'2
Then for r > 1 > s,1021 > 1 and convergence requires
^6 " ^6 " solution obtained in Equations 25 and 26
gives the time paths of the price level and the level
<J>5 -*5? V
Y = =
0^^ - (1 + A) (1 + x)r - X
w . . 00 .
da.Q =~d.Z^ = "h ^2^ )dV ^ ^4^ )dZ
o o
00 CO .
d^5 = - [ à Z ^ + E(*iri + <},2S^)dV^ + zt^gr^ +
o o
r—« O
H-
M8 rt
8- + 1
a>
I
p.
ïnn> p. rt
O M 8 O M I
o M 8 M
rt
O
N
O
N M
p.
•e- o + a> -»
-o- W -e- rt Ln
ti O M
w
•6- rt M 8 rt
H
""ii -e-
n
M
MH» •o-
M
O M 8 +
% M 1
H CD
-e-
a» O M 8
+ H-
rt
M
M rt
-e- •e-
K> •e- -e- rt •o- + M H- M
4> 4> O M I Ni M
CO
Ui CO CO •e-
N)
0 M V + O M S M
H'
•e- H-
N3 V-/ CO •e- -o-
î. CO p. H- M N> +
S- <! M CO H
H» -e-
m <5- H'
t.
&(b ?
rt
+
<!
(D +
H-
s_x
p.
<î
+
N>
CO
H*
H- H*
I +
H"
•O"
CO
g-
H
+
s*
n>
-e-
CO
S-
n> %
CO
5n>
(D
48
Therefore,
da^ = E (f^r^ +
o
t-1 s .
+ I (o^r + <i)^s )dz
+ + *2S^) - + 4,2S^'''^)}dV^^_^j.
t t ^ .
da^ = -dz^e 2 - G Z (o^r + (^2^ )dv ^
o
t-1 . .
+ E ($3%^ 4)48 )dz 2+^]
o
o^^2® ^
" i ^3 r^ t ^ 3 t e
z[*4s +1-9 i(^(^nr^ ® ^^^z
49
t-1 . i e
+ Z (Ogr + )dz
o
+ eSdy
l^TS
Note that
+ (•jr^ +
50
rdz r C-1 . i _
d^t = aYo+[(l+x)r - l+[ ^ (+1? + *2"
t-1 i i. e
+ Z (*3? +<j>4S )dz i+il[(i+^)r -
+(z[(4irt+i + 'J'2S^'^^)dv®^^^
o
+ zECyi?^ + Y2S^)dv^t+i
o
and hence
rdz t-1 . .
dPj = dy^ + - %]» 1 +([ I (*1^ + +2= i
t-1 . - re^i
+ Z (*3r + " ,]
, . 4'or^'^^ i|),r(S.)^
+ z[(Y3r + Y4S ) +((i+x)r _ % + ((l4-x)r - :\^®^^^^%+l+i
rdz t-1 . -
= dY. + t(l+l)r - 1 + [ I («If + *2: i
+ Y(+3ri + ,]
*ir i <l>2^(§)^ i _
+ :[((l+x)r - X + Yl) r + ("^2 + (i+A)r - t+i
and ^ [ a±il^,
and hence,
Cl + X )r - X + - 0
and
*3% + ^3 = 0
(1+ X )r - X
52
Thus:
rdz t-1
dP^ = dm* + 8 i[(i+%)r _ +[ Z (41?! + *28
i i e 1
4- I (*3? + )dz i+in(i+x)r -
" 4>2^(f")^ i e
+ ^^(^2 + (l+x)r - 7?^ t+i
<i>4r(§)^ i g
+ (^4 + (l+x)r - x)^ t+l+i (26b
Steady State
The steady state of the system is attained when all
accumulation ceases and the expected rate of exchange
depreciation is zero. Balance of trade will be zero
and demand for money will be equal to the supnly of money.
For either monetary policy, this is described by the set
of equations:
1
1
9-1 ^
-E
-Ew r* dA
-E (d(p)) - dA + dr* - 0
w £ 1. 2:*
and hence
r-
6-1 d(f)
' (0A _ ) dr*
-Ew V
-Ew dA dr*
_ _ r*
!
56
d($) E^p0r*/r*
= W8^* < 0
dr* -E.
w (0-1) +
w
and
E A
dA ,
- V'f*
^(s-1)
= (——^ - W9 ^ ) r * > 0
Y*
An independent increase in the foreign interest rate reduces
the equilibrium real money stock both because it lowers the
preferred share of real balances in wealth and because it
reduces the level of real wealth. With real balances
comprising a smaller fraction (and hence with realTassets
comorising a larger fraction) of wealth, we tnust have
an increase in the equilibrium price level and thus a
depreciation of the exchange rate.
of monetary disturbance.
(b) Unanticipated Permanent Disturbance: represented
ds. PU
^3g
(c) Anticipated Transitory Disturbance:
às
(d) Anticipated Permanent Disturbance: PA
59
dM + dA = 0
60
dA _ -r* dM
IT - -p- T
-dM . M r*
" TT P X
dA _ -dM f e .
T ~ -W
and hence,
diut - da^ =
dSt TU
cno " XrFxTTireT
61
dst TU ^
dm^ KE ^ ^
" ITT- ^
66
Therefore
ds^ PU
me
d^t PU
= 1
dm^ ME
3--'-
dst PU . 1 1
dm^ omo ° Tû'l+ê + ^<Trê)l
68
t time
= Y + A - E(Y + A, ^ + 1^)
and
dPt - dm^ + - J
71
PU
= ^ ® l^i+x )r - (iZe)
omo
^^o
a —
omo A exog.
ITe - ^+A
dP
a;;;;; ^ ^-
°1 + Ki+x)r -- Jt-rêrl
da. = - 0^,dz^
t 1 o
r<-1
r>1
time
A< •
t=0 time
Anticipated disturbances
Assume that the initial position of the economy just
before the policy change is a steady state equilibrium,
and the government is initially inactive, that is all
parameters of government policy are set at zero. Therefore
if the change in the money stock at period t + T is
entirely unanticipated, and that up to that time the
money stock has been constant, then the economy will be
in steady state equilibrium up to that time, and when
the monetary expansion occurs, the exchange rate
79
dPt • iTx
1—T-t
Jo
= ( X y
3—
omo anticipated I+T' omo
unanticipated
dS. dSo
> J ''
omo unanticipated omo anticipated
fft
dm^
1 B C
1-e
1.0
Full
Neutrality
1
t=7 time
dZ = 0
o
dm^ = dm*, t ^ x
= 0 , t < T
and also
dZ^ = 0 , i f T
dz^ = dz = dm
daT= E ((}>-!+
X ^_Q J. <j)2S^)]dm
z. - dz[-^
r + -^(^)^]
s r
= 9^1J-[ z (6nr^
J. + 6)S^)dm
•^ - J + 4/s'^"^)dz]
4
- *5*2^
86
where
T-1
5 =[ - (*3?^" + *48^" )dz]
+ [*4sT-t-l(l - (|)^)]dZ
t i i i t tN
= e [ Z (*nr + (j)~s )- z *nS (r -s )]dm
^ i=0 ^ i=0
+ [+4sT-t-l(l - (|)^)]dz
r8n^ 1 1 T -1 - •
dp^ = dm + [ + *48^" )dZ-dm z^((|,^r +^2^ )]
= ^ + (l+x)r - X
dPt - dm - (i+x)r -
re^, t-1 . .
^^t = - ^(l+x>r - *2=
T -t <t)2^(|-)^ I
'iio ^
,S\t
Hence, when t = 0
T-1 (t>2^ i
dpj - dm - ^î^[y2 + (1+,)^ -
= dm - E + j- [r(i+^),>]s^'^dz
dm
Full
Nutrality
Fifture 7a. The time path of the price level (exchange rate)
under full rational expectations when an open
market operation is anticipated
93
t=0 time
Fipure 7b. The time path of the foreign asset level a^,
under full rational expectations when an open
market operation is anticipated
94
dS^/dm^ dS^/dm^
Full rational Partial rational
Time expectations expectations
0.0012 0.0008
t = 2 0.0025 0.0047
t = 3 0.0170 0.0281
t = 4 0.0280 0.1684
t = 5 0.9762 1.0100
t = 6 0.9854 1.0100
0.9910 1.0100
rt
II
t = 8 0.9945 1.0100
t =9 0.9966 1.0100
t = 10 0.9979 1.0100
t ™ P^ 1.0000
96
Full
Neutrality
Figure 8a. The time path of the price level (exchange rate)
under full rational expectations when an open
market operation is anticipated
98
FiRure 8b. The time path of the foreign asset level a^,
under full rational expectations when an open
market operation is anticipated
99
0.0002 0.0003
rt
II
t= 1 0.0018 0.0015
t = 2 0.0063 0.0093
t = 3 0.0410 0.0555
t= 4 0.0515 0.3333
t= 5 1.8670 2.0000
t= 6 1.5320 2.0000
t = 7 1.3263 2.0000
oo
1.2002 2.0000
rt
II
t= 9 1.1228 2.0000
t = 10 1.0753 2.0000
t ^ 1.0000
101
dm^ = 0; t+ i < T
= dm; t + i-^ T
From Equation 18, we have
For t £ T, we have
dm^_^j^ 0 when t + i ^ t
or when i ^ t - t
Therefore, the time path of the exchange rate due to a
change in expectations at t = 0 is given by
102
1—T~ t-
dPo = (l^)^dm
Hence, the longer the time lag between the time of the
announcement and the time the change actually occurs,
the smaller is the initial depreciation of the exchange
rate. For t < %, the exchange rate depreciates exponentially,
and the system reaches full neutrality at t = %.
Comparing the impact effect of the unanticipated
pure monetary expansion with the anticipated pure
monetary expansion effect, we obtain
and hence
< as.
a® anticipated dîIE unanticipated
since < 1
dSo 1 \/ ,X \T 'dS^
_ /_1 o =
Tomo
~ antlctpated" '3® anticipated I+x
dm^ = dm*, t ^ T
= 0, t < T
t i i T-t: • ^ ^
da_ = 8 1[ Z (Oir + (j)«s ) - z (j)«s (r - s )]dm
^ ^ i=0 ^ i=0
T-t * 2 ^ i
= dm - s dm
= dm - : ^[bo-g +
o o
As noted in an earlier discussion, there will be an
immediate depreciation of the exchange rate at the time of
the announcement of the future increase in the money stock.
From then on, the exchange rate will continue to depreciate,
and the anticipation of depreciation will lower real
balances, real wealth and real expenditures and hence will
give rise to current account surplus. The subsequent time
paths of the price level under full rational expectations
is as follows:
(ii) when t < T
106
re^,
i-O 1 t-1 s '
aPt = dm - [(i+^)r - %][.Eo(*ir + *2=
T-t i
" iio (1+A)r - dm
(iii) when t = t
re"^- T-1 . .
dp, = dm - '(l+Or - + *2» )dm]
1—u
Hence no overshooting at t = t.
RE^N T -1 J J
dPt ° dn - )dm]
dm
Full
Neutrality
Figure 10. The time paths of the exchange rate when the
change in the money stock is anticipated under
full rational and partial rational expectations
109
dS^/dm^
Full rational Partial rational
Time expectations expectations
r
omo antic. < 1 increasing < 1 if *5 > 0 approaching
> 1 if (j)5 < 0 1.0
The results suggest that the larger the time lag between
the time of the announcement and the time the change
actually occurs, the smaller is the initial depreciation
in the current exchange rate. The effects of the anticipated
increase in the money stock on the exchange rate are
greatest in the period in which the change occurs and are
proportional to that change in earlier periods with the
weights declining geometrically. Afterwards, when there
is a corrective monetary policy, the system will return
to the original equilibrium.
Endogenous wealth changes and its long run implications
were ignored in the above analysis. To take these into
consideration we need to examine the analysis under full
rational expectations. However, the anticipated transitory
monetary expansion could be ignored under full rational
expectations, since presumably a transitory effect would
be ignored by agents.
115
E + E* = Y + Y* (31)
where
E = E(Y, W) (32)
E* = E*(Y*,W*) (33)
116
M , A (34)
(35)
r* + P/P
r* + P*/P*
117
hence
M _
F"
and
E + E* = Y + Y* (42)
119
M _ PA.L(r* + Y)
p*A*.L*(r* 4- TT*, Y*)
^ ~ S(^)(^) e (45)
St = TTT
Ln(K/K*) = + K^t
where
Table 5. OLS estimates for Ln(S) DM/ restricted-mixed sample and prior informa-
tien
gg Ln(M^) Ln(M*^) (i-i*) Ln(Y^) Ln(Y*^) t Ln(S-l)
Bo e($/DM) RHO R2 DW
(la) MBg -0.736 1.074 80.140 0.994 0.87
(4.6) (72.9) (1.3)
(lb) MBg -0.785 1.080 -67.053 0.731 0.997 1.508
(-1.8) (26.8) (-1.5) (6.3)
(Ic) Mlg 0.959 1.372 -67.944 0.917 0.989 1.719
(0.2) (3.5) (-0.6) (13.6)
Foreign exchange reserves (in $)
^T-Jhere MB and HB are central bank money and target central bank money,
respectively.
132
The Model
The general features of a bilateral exchange rate
model relate to assumptions concerning equilibrium in
the money markets in the two countries, and the condition
of purchasing power parity. In this section the bilateral
134
^ (48)
^ (49)
(50)
j^d p*A*Y*^e"^
. _ dLn(M^/M*^) _ 1 .
' ar —3T
Empirical Results
The time period undertaken by this study is from
January 1972 to December 1980. One hundred and eight
observations of monthly data are used for the empirical
work within the above time period. Exchange rates
began to float in 1972 and hence, the reason for choosing
the above time period. Monthly data on all variables
were obtained from the International Financial Statistics,
published by the International Monetary Fund.
The exchange rate equation is estimated using
ordinary least square regression procedure. The results
are presented in Table 10 below. This is the unrestricted
model. The values for the multiple correlation coefficient
(R2), the standard error (SE), the first order auto
correlation (p) and the Durbin-Watson Statistic (DT-J)
are listed for the estimated equation.
The elasticity of the exchange rate with respect
to the domestic money supply has the expected sign but
is not significant. The elasticity of the exchange
rate with respect to the domestic real income has the
predicted sign and is also significant, however, with
respect to the foreign real income, the exchange rate
137
Parameter/
Variable Estimate T-ratio Prob > |T|
E(V^) = 0
"t+s> = S -0
= 0 for s f 0
140
TY = TX + TU
-P 1 0 0
0 -p 1 0
T =
0 0 0 -p 1 0
0 0 0 0 -p 1
+ U, (52)
and hence
Parameter
Variable estimate T-ratio Prob > [T|
Parameter
Variable estimate T ratio Prob > |T|
Parameter
Variable estimate T ratio Prob >||
T
Identification
This section deals with obtaining information about
a time series, leading to identification of a Box-Jenkins
model. Examination of the sample autocorrelation function
of the Ln(H^) series in Figure 11 indicates stationarity,
since the sample autocorrelation function for the time
series dies down rapidly. The sample partial autocorrela
tion function in Figure 12 cuts off at lag 2, indicating
149
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********$*********?***
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**$$*#**$***********
*************$******
***********#****$**
****************$**
************?*****
******#***#****#**
***********$»****
*#$************$
***************
»4;4c***********
**************
*************
************
******$****
***********
**********
********
******* *
******* *
*******
******
*****
**** *
****
***
***
**
**
*
*
*
*
I »*
I *
H +
Autocorrelation check
Outputs pertaining to the residuals from the fitted
model are useful for diagnostic checking. An effective
way to measure the overall adequacy of the tentative model
is to examine a quantity that determines whether the first
K autocorrelations of the residuals considered together,
indicate adequacy of the model. This is the Box-Pierce
chi-square statistic, and is computed using the formula
K 2
a = (n-d)z r - ( e )
i=l ^
Standard Error S = y
j 2
c(f.) = z I(fi)/nS^
i-1
Model
1 2
^1 0.9964 0.6654
(40.27) (7.11)
*2 0.3329
(3.57)
6 0.018 0.0083
Box-Pierce (20 D.F.) 19.412 15.384
Significant autocorrelations
in residuals Lag 1 Lag 2
Standard Error 0.0036 0.0032
0.936 0.944
(93.28) (6.06)
Box-Pierce X^(20 D.F) = 9.55 = 0.948 DW = 1.91
Parameter
Variable estimate T-ratio Prob > |T|
Parameter
Variable estimate T-ratio Prob > |T|
R RN
S 0.031
(0.754)
SN 0.0101
(0.918)
where S = (DM/$) exchange rate
R = German money supply deviation from the expected
money supply.
SN = Netherlands-U.S. (G/$) exchange rate
RN = Netherlands money supply deviations from the
expected money supply.
REFERENCES
ACKNOWLEDGMENTS
APPENDIX 1. DATA
Derived variables
Z Predicted German money supply Ln(M^)
ZN Predicted Dutch money supply Ln(MN^)
R Unpredicted German money supply
Ln(M^.) - Ln(M^)
RN Unpredicted Dutch money supply
Ln(MN^) - LN(MN^)
Data Sources
Monthly data on all variables are obtained from the
International Financial Statistics, published by the
International Monetary Fund.
179
AS
~S"
Hence
= Ln[l + ^] +|(^)^ - +
AS
= Ln[l 4- -^] if we assume higher oowers
be relatively small.
= Lnt§-±g^]
= Ln[!§±l]
^t
Hence,
= Ln(S^^^) - Ln(S^)
180
or
Hence,
P* = tn* + !g°
and define
a2 ~ ^
= -(1 + X + XBGI)
ao = (1 + x)bo - g
Hence,
O + «1 + 02 = bo - g - 1
q
2
-a^ + /Co 2 "
^ = zz
2
-«2 ~ /(a 2 "
s =
182
+ Yse^i
Define ^2 = ^^t+2+i^''
o o
^1 ^^t+3+i^'
o ^2 ^^t+3+i^
o
Hence
«1
'^'t+2+i^^ = 't+2 + W + +
o
and
-^t+l+i-
o ^t+1 ^t+2- "'" ^t+3~
- \+i +
and
= Vt + W + +
O
\ + 't+i'^ +
183
+ (y3 + yfy>^t+2^
Rearranging terms:
2
'''o^"0'^"l''"®'2^ Yl^^(*2 °1^ + «0^ )
+ Y2^^(G2 ^ "'l^ o ^ S ^ )
Therefore,
a-i
We know that r = - + D
«0 ^=0
S = .^ ^
°o
= r -^
°o
n
and — = 2r + —
°o «0
a, a-. a, b - g
^(bi - g) + »o[n<2r + ^)- (r + ^)(-°^)] - -1
0 0 0
°1 b - g
»o[Yi(2r + - r(-2_ )] = -1
° ^ "o "o
Y2^ - rCbg - g) = -1
rCb^ - g) - 1
Yl
and
bo - g
^2 = - ^1
(Y3 + Y4) = ^
o
186
^3 = if
and
1 . r
Y4 - - ^+ D
o
o o o o ~
Hence,
0 0 , 0 0 0 0 . 0 0
+5 = *0 - *o
T-1 jT i
= - [ Z (Onr + <t)«s )(-dm)]
^ i=0 ^
_ ^5
^5 X0^ - iL-i-X)
188
- (l+x)p^ ~ ®t ~ ~^t ~
1+X 1
e^ + m*
^t+1 X X Pt K
=
+
^t+1
g bo ^t •g^t - Zt+1 + - gm*
1
Let Pt ^5
^t *5
hence
X y,
Pt+1
't+1 X*,
189
Therefore
-, e^+m*
X.5 - (4^) -1 Y5
=
- X - \
+ X^
- s -^0 *5 gV^ - Z^-^i+e^-gm*
X 1+X 1 0
X X
g X - b 0
and hence.
(X - l±i)(X - b^) - I =0
02^ - a^X + Oq = 0
^ 1 ~ ®1 ~ r ^ 2 ~ ®2 ~ I
190
1 0
(61 - ^) -X Y5
-g ®1 - ^0 <^5 0
and hence
75(81 - -0 (62)
Therefore,
= Ï5*5
- "o
Hence, we conclude that 0 and therefore from
Equation 63, if Yg > 0 it implies that < 0 and if y^ < 0
it implies that > 0. From Equation 62, we can therefore
make the following conclusions: if > 0, that is if
191
then
«5
^5 - xei- (1 +X) ^ 0
then
•5
•<5'xe - (1% X) '°